Although my term life insurance policies are level premium policies (same premium due every year of the term) there are advantages to a non-level premium policy. An annually renewable term (ART) policy is one where the premium goes up each year of the policy. Although that makes later years very expensive compared to the first few years, it offers an advantage in that you have more money available early in your career to pay off loans and invest. For super savers, it also gives you the opportunity to drop the policy when you reach financial independence, potentially saving a large percentage of the total premiums you would pay by purchasing and then cancelling a level premium policy early. However, some agents are skeptical that ART is actually less expensive than a level premium policy, so I thought it would be useful to run the numbers.

Daniel Wrenne, a financial planner and advertiser on the site, provided me an annually renewable term policy from AXA, which was the least expensive one he could find. We ran the numbers using a healthy, non-smoking 30 year old male in Kentucky and a $1 Million policy. Now, bear in mind that while the company cannot cancel your policy on you, they can increase the premiums by more than the schedule shows. So you have to look at both the projected premiums and the guaranteed premiums. The good news is that, reportedly, AXA has only increased premiums above the schedule one time in the past. We will compare to the least expensive level 10, level 20, and level 30 policies I could find.

 Year ART Sched.  Total  ART Guar. Total Level 10 Total Level 20 Total Level 30 Total
1 300 300 300 300 235 235 413 413 685 685
2 325 625 325 625 235 470 413 826 685 1370
3 325 950 325 950 235 705 413 1239 685 2055
4 325 1275 2935 3885 235 940 413 1652 685 2740
5 325 1600 2995 6880 235 1175 413 2065 685 3425
6 335 1935 3075 9955 235 1410 413 2478 685 4110
7 335 2270 3165 13120 235 1645 413 2891 685 4795
8 365 2635 3255 16375 235 1880 413 3304 685 5480
9 375 3010 3345 19720 235 2115 413 3717 685 6165
10 395 3405 3405 23125 235 2350 413 4130 685 6850
11 425 3830 3615 26740 413 4543 685 7535
12 475 4305 3915 30655 413 4956 685 8220
13 515 4820 4185 34840 413 5369 685 8905
14 545 5365 4515 39355 413 5782 685 9590
15 575 5940 4875 44230 413 6195 685 10275
16 605 6545 5205 49435 413 6608 685 10960
17 635 7180 5535 54970 413 7021 685 11645
18 675 7855 5925 60895 413 7434 685 12330
19 725 8580 6405 67300 413 7847 685 13015
20 775 9355 6975 74275 413 8260 685 13700
21 895 10250 7515 81790 685 14385
22 975 11225 7965 89755 685 15070
23 1075 12300 8445 98200 685 15755
24 1125 13425 8955 107155 685 16440
25 1195 14620 9525 116680 685 17125
26 1325 15945 10125 126805 685 17810
27 1595 17540 11025 137830 685 18495
28 1675 19215 11925 149755 685 19180
29 1825 21040 12945 162700 685 19865
30 1895 22935 14025 176725 685 20550

 

Sorry the table isn’t prettier.

Now, while you’re enjoying number overload, let’s try breaking this down. The first column is the year of the policy, it goes from 1 to 30. The next column is the scheduled column for an ART policy, with the third column being the total premiums paid to that point in the policy. You can compare this to the next two columns, for the guaranteed premiums in the policy. As you can clearly see, nothing is keeping the insurance company from raising the premiums through the roof right away. No guarantee there. That’s the first downside of using an ART policy.

Speaking of Crazy- This is the Golden Stair pitch of the Grand Teton

Speaking of Crazy- This is the Golden Stair pitch of the Grand Teton

But, if for some crazy reason they raise the rates dramatically (and they have to do it for everyone in your insured class, not just you), as long as you’re insurable, no big deal. You just go buy another policy from another company. Combine that with the fact that raising rates significantly is very unlikely, and I feel pretty good just using the scheduled premiums for the rest of our comparisons. If you want the guarantee, get a level premium policy.

ART vs 10 Year Level

Now, let’s compare ART to a ten year policy. As you can see, the ART has higher rates than the ten year policy starting in year 1. So if you really only want a policy for a few years (i.e. 10 or less) there’s no sense in buying an ART policy. Just go get a 10 year level premium. It doesn’t make sense, but that’s apparently the way it is.

ART vs 20 Year

Next, we’ll compare ART to a twenty year policy. As you can see, the ART has higher rates starting in year 11. However, the cumulative premiums paid become equal in year 17. By year 20, you will have paid an extra $1,095 for the ART policy.

ART vs 30 Year

Now for the 30 year, which is what most people would recommend for a 30 year old. The ART rates become higher than the level rates in year 19. The cumulative total for the ART doesn’t become higher until year 28, and even if you keep it a full 30 years, you’re only going to pay an extra $2,385.

Bottom line for this particular person seeking insurance: if you’re going to cancel your policy in 17 years or less, better to buy an ART than a level 20 policy. If you’re going to cancel in 28 years or less, better to buy an ART than a level 30 policy.

The Time Value of Money

But wait, there’s more. We haven’t taken into consideration the time value of money. Money in year 28 simply isn’t worth as much as money in year 1. If we assume this particular person actually invested the difference, and earned 5% on it, how much better off would he be than if he had bought the level premium policy?

Comparing the ART to the 20 year policy, after 10 years when the premiums for the ART policy finally become larger than the level policy, the ART dude has an extra $1633 sitting around to help pay them. This has the basic effect of pushing the break-even point out from year 17 to year 19.

It gets even better when comparing with the 30 year policy. After 17 years when the ART premiums become larger, ART dude has over $14K sitting around. In fact, after 30 years, assuming all that money saved was earning 5% the whole time, he still has an extra $6K for his efforts.

Pure Insurance

I find that result kind of exciting. I see annually renewable term as more of a “pure” insurance than a level premium policy. You use it until you hit financial independence, then you cancel it. What it costs you is what it costs you. While some people might be pushed to cancel their policy earlier than they should due to the rapidly climbing premiums, others will use that escalating premium to motivate them to save more, trim expenses more and invest smarter. I don’t necessarily see behavioral issues (because personal finance is both finance-i.e. math and personal- i.e. behavior) working better for either policy. You do lose the guaranteed premiums. But as we’ve seen time and time again with various insurance products, guarantees aren’t free and they rarely come cheap. Only transfer the risk you absolutely need to and, with discipline, you’re likely to come out ahead financially.

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Your Mileage May Vary

So what should you do? Well, I suggest that if you want to consider this non-conventional approach that you make a table such as the one above using the actual policies a good independent life insurance agent generates for you. Project when you expect to be financially independent. Then compare the ART policy to a level term policy of appropriate length. I won’t be buying an ART because I already own level premium policies bought years ago and will reach financial independence in less than 1 years. But I kind of wish I had at least considered them when I purchased my policies. I might have chosen not to pay for the guarantees of a level premium policy.

What do you think? Do you own an ART policy? Why or why not? Did you consider one? If you are an insurance agent or financial planner, what would it take for you to recommend one to your client? Comment below!